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Why HD Supply Is a Smart Play on Long-Term Construction Trends

By Michael Lewis - Mar 27, 2014 at 12:00AM

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Home building may not be the hot ticket it was a year or two ago, but nonresidential construction is on the rise. This diversified hardware and services provider is a well-run, diversified play.

HD Supply Holdings ( HDS ) is one of a myriad of examples that illuminates the potential of spin-offs. The company was spawned out of home-improvement behemoth Home Depot and is similarly a direct beneficiary of the growth in the housing industry. The company focuses not on the retail level but higher up the food chain with industrial and commercial products, along with management-level service offerings. In its just-ended quarter, the company didn't post results that were too far from expectations, yet the market still rejoiced and sent the stock to its 52-week highs. Though it already tacked on a 30% premium to its market cap one year ago, investors should be interested as this remains an appealingly valued, well-positioned play on housing and infrastructure growth.

Build up
On an adjusted basis, HD Supply saw 2013 sales grow 9%, EBITDA grow 21%, and net income of $0.58 per share, compared to a loss of $0.99 per share in 2012. In the company's fiscal fourth quarter, the business achieved its 15th consecutive period that the company has grown its average daily sales. Despite the harsh winter weather that undoubtedly delayed many projects around the country, HD Supply is able to keep pushing its products and services with tremendous success.

As a quick review, HD Supply has a few business segments in which it operates -- facilities maintenance, waterworks, power solutions, and white cap. White cap is comprised of specialty construction hardware products. In order, the segments grew sales 7.4%, 4.2%, 5.8%, and 10.9% for a total sales figure of $1.9 billion -- a 6.9% climb over the prior year's quarter. This is an important comp, as last year's housing market had major steam behind it and this most recent quarter was plagued with weather problems.

At every segment, adjusted EBITDA margins improved, and most markedly within White Cap with a 210 basis point jump.

HD Supply is seeing particular strength in nonresidential construction. Take Orlando, for example, which has a $400 million contract involving performing arts centers, stadiums, hotels, and more. Management seems optimistic on the residential front, but accurately forecasts for slower growth in the coming years. The growth story is switching to commercial and industrial contracts.

Ready to buy?
With the slowing growth in home building, it might not make sense to dive into a stock that is closely tied to the sector and that has performed strongly over the course of a year. But HD Supply is a diversified business that can still excel and outpace the general market due to its range of segments and markets. More importantly, the company is priced right.

At 12.5 times forward estimated earnings, HD Supply is valued in line with major homebuilders, like Lennar and KB Home. But with its nonresidential business on the rise, and a general performance that outpaces its industry, HD Supply offers more for the same price. This is a business that was grown out of one of the best retailers around, and the long-term opportunity is just as good, if not better.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis – even one of our own – helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.

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Stocks Mentioned

The Home Depot, Inc. Stock Quote
The Home Depot, Inc.
$400.42 (-0.05%) $0.19
Lennar Corporation Stock Quote
Lennar Corporation
$108.57 (3.35%) $3.52
KB Home Stock Quote
KB Home
$39.84 (-0.38%) $0.15
HD Supply Holdings, Inc. Stock Quote
HD Supply Holdings, Inc.

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